Monday, February 21, 2011

Corporate Governance Group Applauds IASB Draft on Management Commentary for Financial Statements

The IASB’s proposed framework for the presentation of management commentary to accompany financial statements prepared in accordance with IFRSs received a strong endorsement from the International Corporate Governance Network, which called the draft a significant step forward in promoting best practice in terms of disclosure on risk and business strategy supported by appropriate metrics and key performance indicators. In the group’s view, the main beneficiaries of management commentary would be existing and potential equity investors, who do not have the same degree of access to information about a company as other capital providers such as lenders and creditors.

However, the governance group said that management commentary should be mandatory rather than non-binding as the Board proposes. There is a major risk that preparers will not take a non-mandatory approach as seriously as a mandatory one. The network also cautioned that using the term “forward looking information” to describe information and disclosures having an orientation to the future may be problematic in jurisdictions such as the US and Canada where that term has a statutory definition and is burdened with a considerable body of court opinions. To avoid this potential pitfall, the governance group suggested that some other term be used to capture the meaning, such as “future oriented information”.

The group values bringing together the financial statements with the key non-financial information and hopes that management commentary will gain prompt acceptance globally as an anchor document for any integrated reporting framework. The proposed disclosures about strategy, resources and performance measures need to be enhanced to include additional features. Disclosures about risks and risk management are important enough to be treated as a separate content element, rather than being grouped with resources and relationships.

Further, specific mention should be made of the need for the management commentary to provide explicit disclosures about environmental, social and governance matters that are relevant and material in assessing a company’s future profitability and sustainability Similarly, intellectual and human capital should be given some specific recognition as a content element. While agreeing with the Board’s proposal not to include illustrative examples, the governance network asked that more guidance be provided regarding the nature and extent of disclosures for each content element.

The principle of management’s view has its roots in regulation, specifically in the MD&A requirements of the SEC. The SEC objective for MD&A reporting is to provide a narrative explanation of a company’s financial statements that enables investors to see the company through the eyes of management. In determining the purpose for management commentary, the Board looked to the objectives stated in existing regulations and guidance issued by the SEC, which stated that the purpose of Management’s Discussion and Analysis (MD&A) is to provide readers with information necessary to an understanding of a company’s financial condition, changes in financial condition and results of operations.

In the IASB’s view, the purpose of management commentary is to provide a context within which to interpret the financial position, financial performance and cash flows of an entity. It also provides an opportunity to understand management’s objectives and its strategies for achieving those objectives. Users of financial reports routinely use the type of information provided in management commentary as a tool for evaluating a company’s prospects and its general risks, as well as the success of management’s strategies for achieving its stated objectives.

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